Tuesday, January 11, 2011

Some Logitech feedback and China macro

Thanks for the comment - email and otherwise on the Logitech post.

The first comment (made fairly consistently) is that the core assumption (peripherals are dying) is wrong. My response: cables are not dead either. My laptop is still connected to my kindle (for charging) via a USB Micro. So what - I now have a box full of cables in the attic and another one at work. I can't imagine myself buying another one for a while.

You can buy a USB Micro cable (buy it now) on Ebay for USD1.50. A USB Cable at Radioshack is $9.95. Selling them for 6 times cost is very fat margin - it was the raison d'etre of Radioshack - a place you went when you needed a cable now. Lots of stores. One close to you. Even small declines in the demand for cables changed the economics of Radioshack.

In five years time we will need mice like we need USB cables. (Irregularly - and you will already have a drawer full of the critters.) The decline of Radioshack will be mirrored in the peripheral makers unless they can find something else to do.

The second set of comments - more concerning from a short's perspective - is that they are finding something else to do. The best stories are about music - people selling high end speakers to go with their computer. Some of this stuff is pretty groovy. Logitech make the (hands down) best ear-buds in the world: Ultimate Ears. That is never going to be a mega-hit product because there are not many people who are up to getting their ears cast by an audiologist for form-fitting (screw in) ear-buds at $1000 a pair. But top-end products like that allow you to develop technology for a mass market.

My guess is that memory on mobile devices (especially phones) gets cheaper and more plentiful we will use phones at much higher sound-quality than the iPods of yore. Improved sound quality will drive demand for higher-end headphones. Maybe not Ultimate Ears - but at least a product that sells for more then a hundred dollars.

I was surprised how few people commented on the Chinese macro angle. To me that was the most important observation.

While DPO is important, think you're focusing too much on it. It feels like you're trying too hard to come up with an example for the (very good!) point you made earlier about payables as an indicator of financial health.

Any tech co will have higher DPO because of manufacturing lead times. This is not so much an unfair balance of power between US and Chinese companies as it is a characteristic of industry, e.g. the company will start accumulating payables when it starts producing a new product that isn't yet generating any sales. Inflation won't change that power dynamic but it might play a role in the selling price negotiations.

Also, an increase in DPO could be due to many other factors:

- Withholding payments from suppliers for longer (your focus)- Declining sales (lowers the denominator)- Decrease in gross margin (if you calculate DPO off COGS)- Accounting change (especially revenue recognition and shifting costs from top line to COGS)- Inventory build up or new product launch (or any period when payables are increasing but related sales are not yet being booked)

They have $307m of cash and $370m of AP.Even if they realistically need say $100m of cash to run the business DPOs need to come back in helluva lot to stress their business.And from your valuation comments no one seems to credit them for the cash on the balance sheet in any case!

Any shift in DPO is a one-off hit to cashflow for Logitech.

It is only if you have been using a negative working capital balance to fund growth that your business model might have to change.

re higher sound quality driving need for higher-end headphones, I'm not suggesting that people are rational like an economist would, but I don't see the benefit of spending huge amounts on headphones when you're going to use them walking down the street where there's tons of background noise.

I had no comment on the China macro assessment because I completely agree with you! Pehaps many people think the same. South China Morning Post had a story today about toy makers looking to relocate mainland factories back to Hong Kong. http://www.scmp.com/portal/site/SCMP/menuitem.2af62ecb329d3d7733492d9253a0a0a0/?vgnextoid=3eedf041d707d210VgnVCM100000360a0a0aRCRD&s=Business

I agree on your China point - it would be very useful if you could post more thoughts on this, especially now that Michael Pettis is cutting back.

Apple is truly an amazing operator in terms of their use of other people's cash. As an example, I ordered a trivial adapter and software on-line in Canada the same day - the widget arrived from China faster than the software shipped from a warehouse outside Toronto, and I'm in Toronto. Shipping included. I presume apple never actually touched the widget, and will not pay for 90 days.

Back to China: everyone assumes the yuan will have to revalue. It may be better if it did, but domestic wage inflation that can't be passed on to e.g. Apple's customers will have _some of_ the same effects. But not all. How this plays out will depend very much on specific industries and political economy. And it will be messy.

What about developing nations? Its hard to believe the ipad will become widespread in latin america and asia, and if a market for low-rate tech products exists and is growing rapidly, that might save logitech.

Maybe I am reading too much into this but if inflation is raging in China and powerful relationships in outsourcing are changing fast doesn’t it imply the whole Chinese economy/model could blowup. US multi-nationals could start outsourcing to other nations (ie Vietnam) or even bring production back home due to better economics. To offset inflation China may have to really aggressively raise interest rates which puts their property/credit bubble at risk or inflation will cause jobs losses and food riots. I guess either scenario leads to a blowup, which has giant global economic implications. Mainly Chinese banks may be insolvent and watch out Japan & Australia. CLF may regret the rather large iron ore acquistion they just made.

The increase in fidelity of the iphones should be mirrored in technological advances in headphones.Most people still can't tell the difference between an mp3 and a lossless codec. Add the diminishing returns of headphone prices, and you'll find it hard to convince the masses to spend more than about $50 on a pair of headphones for acoustic reasons alone (branding and hi-fi snobbery is a different story)

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